Sunday, August 08, 2010

The Greenspan But

Ahh, the irrationally inscrutable Mr. Greenspan, he of the Greenspan Put.

Mr. Greenspan is now, it appears, older and perhaps wiser. Perhaps just conscious of his legacy.

This is him in testimony in 1998 on regulating the OTC derivatives market, which spun wildly out of control, bringing down the whole CDS and other credit derivatives markets in the last few years:
the Board supports a standstill of attempts by the Commodity Futures Trading Commission (CFTC) to impose new regulations on OTC derivatives

The Commodity Exchange Act of 1936 and its predecessor the Grain Futures Act of 1922 were a response to the perceived problems of manipulation of grain markets that were particularly evident in the latter part of the nineteenth and early part of the twentieth centuries.

Financial derivative contracts are fundamentally different from agricultural futures owing to the nature of the underlying asset from which the derivative contract is "derived." Supplies of foreign exchange, government securities, and certain other financial instruments are being continuously replenished, and large inventories held throughout the world are immediately available to be offered in markets if traders endeavor to create an artificial shortage. Thus, unlike commodities whose supply is limited to a particular growing season and finite carryover, the markets for financial instruments and their derivatives are deep and, as a consequence, are extremely difficult to manipulate.

This is him again in 2002 discussing bank regulation more broadly:
an ever burgeoning global financial system also inevitably raises the potential of increasing systemic risk. Here I would like to focus on a narrower, but nonetheless increasingly important, issue: the nexus of risk-taking, regulation, innovation, and wealth creation.

evolution in financial structure has also meant that supervision and regulation must be continually changing in order to respond adequately to these developments. In today's markets, for example, there is an increased reliance on private counterparty surveillance as the primary means of financial control.

An example more immediate to current regulatory concerns is the issue of regulation and disclosure in the over-the-counter derivatives market. By design, this market, presumed to involve dealings among sophisticated professionals, has been largely exempt from government regulation. In part, this exemption reflects the view that professionals do not require the investor protections commonly afforded to markets in which retail investors participate.

But regulation is not only unnecessary in these markets, it is potentially damaging, because regulation presupposes disclosure and forced disclosure of proprietary information can undercut innovations in financial markets

But unfettered competitive capitalism is by no means fully accepted as the optimal economic paradigm, at least as yet. Some of those involved in public policy often see competition as too frenetic. This different perspective is captured most clearly for me in a soliloquy attributed to a prominent European leader several years ago. He asked, "What is the market? It is the law of the jungle, the law of nature. And what is civilization? It is the struggle against nature." A major determinant of regulatory regimes is how a rule of law is applied to strike a balance between the perceived benefits of wholly unfettered markets and the perceived societal costs of overly fierce competition.

The extent of government intervention in markets to control risk-taking is, at the end of the day, a tradeoff between economic growth with its associated potential instability and a more civil but less stressful way of life with a lower standard of living.

Those of us who support market capitalism in its more-competitive forms might argue that unfettered markets create a degree of wealth that fosters a more civilized existence. I have always found that insight compelling.

And here, at last, is Mr. Greenspan discussing this topic in 2008:

Greenspan Says He Was Wrong On Regulation
The former chairman of the Federal Reserve said the crisis had shaken his very understanding of how markets work, and agreed that certain financial derivatives should be regulated -- an idea he had long resisted.

"You found that your view of the world, your ideology was not right, it was not working?" said Rep. Henry A. Waxman (D-Calif.), the committee chairman.

"Absolutely, precisely," Greenspan said. "You know, that's precisely the reason I was shocked, because I have been going for 40 years or more with very considerable evidence that it was working exceptionally well."

Waxman asked whether the former chairman was wrong to consistently oppose regulating the multitrillion dollar derivative market that has contributed to the financial crisis.

"Well, partially," said Greenspan, before stressing the difference between credit-default swaps and other types of derivatives.

Greenspan seemed genuinely perplexed yesterday by all that had happened, hard-pressed to explain how formerly fundamental truths about how markets work could have proved so wrong.

"I made a mistake," Greenspan said, "in presuming that the self-interests of organizations, specifically banks and others, were such as that they were best capable of protecting their own shareholders and their equity in the firms."

"The Federal Reserve had as good an economic organization as exists," Greenspan said. "If all those extraordinarily capable people were unable to foresee the development of this critical problem . . . we have to ask ourselves: Why is that? And the answer is that we're not smart enough as people. We just cannot see events that far in advance."

BUT ..., he said:
"We have to recognize that this is almost surely a once-in-a-century phenomenon," Greenspan said, "and in that regard, to realize the types of regulation that would prevent this from happening in the future are so onerous as to basically suppress the growth rate in the economy and . . . the standards of living of the American people."

And, now, here he goes again. While he supported the Bush tax cuts when they were proposed, he's not supporting their extension.

He would, BUT ....

Greenspan Calls for Repeal of All the Bush Tax Cuts
“I’m in favor of tax cuts, but not with borrowed money,” Mr. Greenspan, 84, said Friday in a telephone interview. “Our choices right now are not between good and better; they’re between bad and worse.

"The problem we now face is the most extraordinary financial crisis that I have ever seen or read about.

There are plenty more backtracks, qualifications and prevarications in that NYT piece.

It's sure to make him the BUT of many more jokes.

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